Cities and counties don’t always have the power to regulate on anything they please. Sometimes local action is pre-empted by state or federal law, but determining when local government action is pre-empted is often tricky business.

The general rule in Washington (and Oregon) is that local governments are authorized to make and enforce all laws necessary to further its police power, including zoning laws, so long as they do not directly conflict with state or federal laws. The Medical Use of Cannabis Act (MUCA), enacted in 2010, codified at RCW 69.51A.085(2), authorized patients to establish collective gardens for growing medical marijuana. “Collective gardens” are defined by state law to include group efforts to pool resources and grow medical marijuana for patients’ own use. The MUCA further clarified that local governments retain authority to regulate the production, processing or dispensing of medical marijuana through zoning, business, licensing, health and safety requirements, and business taxes. RCW 69.51A.140. Relying on this zoning authority, the City of Kent, Washington enacted an ordinance that prohibited “collective gardens” in every zoning district within the city.

In the recent case, Cannabis Action Coalition (CAC) v. City of Kent, the Washington Supreme Court was asked whether the MUCA authorization for “collective gardens” preempts the Kent ordinance banning them. A statute preempts the field and invalidates a local ordinance “if there is express legislative intent to preempt the field or if such intent is necessarily implied…from the purpose of the statute and facts and circumstances under which it was intended to operate.” The Court found no express preemption clause, leaving the question of whether preemption is implied. CAC argued that the express authorization allows cities to zone only commercial production and processing of marijuana and not non-commercial collective gardens. The court rejected that argument, finding nothing in the express language that distinguished between a profit or the shared use collective garden activities. The Court went on to find that, although state law prohibits local governments from opting out of medical marijuana altogether, the local ordinance concerned a particular land use, collective gardens, and did not address the personal use of medical marijuana. Accordingly, the Court found that the City’s ordinance was not pre-empted.

Justice Gonzalez provided an interesting dissent explaining that, although a city may regulate consistent with the MUCA, it may not completely ban what the state permits. The majority failed to acknowledge that participation in collective gardens is legal under state law and, as a result, Gonzalez asserts, the city may not enact regulations, zoning or not, that prohibit this lawful activity.

It is also important to note that while this appeal was pending, the legislature enacted comprehensive reform concerning the regulation of medical marijuana in Washington including repeal of the statutory provisions authorizing collective gardens. Laws of 2015, ch. 70. That said, this case provides an interesting commentary as the Washington Supreme Court prepares to decide whether to hear a case challenging cities’ and counties’ authority to ban licensed recreational marijuana retailers and the legislatures of both Oregon and Washington work to fashion regulations surrounding the production, processing and distribution of both medical and recreational marijuana that focus on standards controlling activities and revenue rather than land use.

On Friday, Governor Jay Inslee signed Senate Bill 5052, reshaping Washington’s medical marijuana law and largely merging commercial medical marijuana production and sale into the regulated I-502 recreational system. This law will have a significant impact on medical marijuana providers and patients. In this brief update, however, I will highlight some of the changes that will impact current participants in the recreational marijuana market or those who wish to join the merged recreational/medical system.

Retailers and Medical Endorsements

Under the new law, medical marijuana will be sold by licensed retailers who obtain a medical marijuana endorsement from the renamed Washington State Liquor and Cannabis Board (mercifully preserving the Board’s useful acronym). Any retailer who acquires an endorsement must carry products that are identified by the Department of Health as beneficial to medical marijuana patients and comply with what will likely be a host of additional regulations adopted by the Department and the WSLCB.

By July 1, 2016, the law will bring to an end unregulated collective gardens. Although individual and collective growing by no more than four medical marijuana patients (or designated providers) for their own use will remain lawful (subject to WSLCB regulation), the retail sale of recreational and medical marijuana will be limited to licensed stores with medical endorsements. Current recreational retailers will need to assess the pros and cons of serving the medical marijuana market and begin to take steps to prepare for applying for a medical marijuana endorsement.

New Retail Licenses

Under regulations to be adopted, the WSLCB will reopen the licensing process for retail stores and issue new recreational licenses to meet the needs of the medical marijuana market. The law directs the WSLCB to increase the maximum number of retail outlets authorized to operate in each county to accommodate the needs of medical patients. Unlike the prior I-502 lottery, however, this round of licensing will be merit-based and intended to identify retailers who have a demonstrated history of legal compliance, qualifications and experience in the marijuana industry, and familiarity with the needs of medical marijuana patients. The specific merit factors, timing, and licensing process will be determined by WSLCB regulation and interested applicants must take measures to stay abreast of this process and react quickly.

The WSLCB will give first priority to applicants who applied for a recreational retail license in the I-502 lottery (prior to July 1, 2014), who have operated or been employed by a medical marijuana collective before January 1, 2013, who have maintained appropriate business licenses, and who have a demonstrated history of paying applicable state taxes and fees. Second priority will be given to applicants who have operated or been employed by a medical marijuana collective before January 1, 2013, maintained business licenses, and paid state taxes and fees, but who did not previously apply for an I-502 license. This priority structure presents an opportunity for applicants who were unsuccessful in the I-502 licensing lottery, but have a tax and business licensing compliant history in the medical marijuana industry and are willing to incorporate medical marijuana into their retail business model.

Accordingly, participants in the medical marijuana market who did not maintain a business license or pay state taxes and fees may face a challenge in entering the new medical marijuana market structure and should take steps now to ensure compliance.

Producers and Processors

The law directs the WSLCB to reconsider the size of the total production canopy to address the need for production of medical marijuana within the regulated system. In addition, existing licensed producers may designate production space for the production of plants determined by the Department of Health to be appropriate for medical use. The LCB is directed to increase the production space allotted to those producers. If current producers do not claim the total increased production canopy, the WSLCB is empowered to reopen licensing for new producers who commit to grow plants destined for medical-endorsed retailers.

Regulations

One of the chief purposes of SB 5052 is to bring medical marijuana under the regulations already adopted by the WSLCB for the I-502 recreational system, including regulations requiring seed to sale tracking, testing and product safety, product packaging, retail store locations, and more. In general, retailers selling medical marijuana under a medical endorsement will need to comply with these WSLCB rules, and be prepared to address the rapid regulatory changes that have occurred in the past year and will likely continue to occur. In addition, the new law will establish additional areas of regulation that have not previously existed in the recreational system or that are specific to medical marijuana. For example, the law authorizes regulations to implement a new medical authorization database and define retailers’ responsibilities for inputting information and issuing recognition cards to patients. In addition, the Department of Health will adopt regulations addressing beneficial medical marijuana products, safe handling requirements, a new “medical marijuana consultant certificate,” and requirements for employees of medical-endorsed retailers. Finally, the law authorizes the WSLCB to conduct controlled purchase programs to enforce the restrictions on sales to minors and authorizes licensed retailers to conduct their own in-house controlled purchase programs to monitor compliance by employees.

Last month, in the first half of this two-part series on strategic planning, we reviewed the important fact that the growth, processing, distribution, retail sale and use of marijuana, while legal under state law, remains illegal as a controlled substance under federal law. The Aug. 29, 2013 Cole memo is guidance from the federal government which provides that the federal government will not enforce the marijuana laws in Washington so long as the state does an adequate job of preventing the marijuana industry from being abused in the state of Washington.

The Cole memo is guidance which could be amended or withdrawn at any time either in whole or part. The impact would lead to criminal prosecution and severe economic hardship.

So what do we recommend for the I-502 business participant?

As mentioned at the end of the last month’s article, we recommend that the I-502 business person utilize a strategic asset ownership plan of limited liability companies (LLCs) and trusts to isolate the risk inherent with the I-502 business from the other assets of the business participant.

Structuring with LLCs: The I-502 business should be owned by an LLC (Washington state law appears to require that the business be owned by an LLC formed under Washington law. See WAC 314.55.020(7)). If the I-502 business person has several I-502 related businesses each business should be operated within its own LLC. The reason for this is to isolate the liabilities associated with each I-502 business within its own separate LLC. We further recommend that the I-502 business person have a second LLC hold the ownership in the I-502 business entity (the operating entity).

The ownership LLC provides a second layer of protection by having both the ownership and operation of the I-502 business in LLCs.

Under Washington law, assuming the investors of the LLC properly operate the LLC and treat it as a separate, independent legal entity, the liabilities associated with the operation of the I-502 business should remain within the LLC and not “bleed” over into the other assets of the I-502 business person. (In the event the federal government reversed the prosecuting of violators of the Controlled Substance Act as it relates to Washington residents, there is no assurance this structure would protect the I-502 business person from criminal liability if found personally liable for violating the federal Controlled Substance Act.)

This is the first installment of a two-part article which talks with you about issues to consider when structuring the ownership once operation of your I-502 related business has begun.

A very important issue with regard to any business, but now particularly with an I-502 business, is the isolation of the potential liability associated with the operation of an I-502 business or I-502 related business from the other assets of the business owner. This strategic planning issue is of particular concern to participants in the I-502 industry so long as the application of federal law to the business remains uncertain.

Where we are: The passage of I-502 made the sale of recreational marijuana legal under Washington State law and resulted in the creation of major new business opportunities within the state.

The problem with this new business is that the direct or indirect growing, possession, sale and distribution of marijuana remains a violation of the federal Controlled Substance Act. So what is legal under Washington law remains illegal under federal law.

Since Washington voters passed I-502 in 2012, there has been much discussion concerning how hoteliers should respond to guests who seek to use (or are caught using) marijuana on a hotel property, either in a public area or in a guest room. Could a hotel even promote itself as friendly to marijuana tourists?

Use of marijuana in view of the general public remains illegal under state law and Liquor Control Board regulations have long required liquor licensees to conduct their licensed premises in compliance with such state drug laws. Allowing guests to smoke anything, including marijuana, in public spaces may also violate public smoking laws and smoke-free workplace laws. So, it was fairly clear that guests could not use marijuana in the public areas of a hotel, and a hotel could not allow guests to use marijuana (smoked or otherwise) in any public place. But that left open the question of whether a hotel could allow guests to use marijuana in smoking-friendly rooms, either explicitly or simply by taking no affirmative action against use of marijuana in guest rooms.

Amended Liquor Control Board rules that went into effect earlier this year appear to answer this question with respect to properties with hotel liquor licenses. WAC 314-11-015 addresses the responsibilities of all liquor licensees, including hotel licensees. The amendments state that licensees and their employees may not:

Engage in or permit any employee or other person to engage in the consumption of any type of marijuana, usable marijuana, or marijuana-infused products in a liquor licensed business, including outdoor service areas or any part of the property owned or controlled by the licensee.

or

Permit any person consuming, or who has consumed within the licensed premises, any type of marijuana, usable marijuana, or marijuana-infused products to remain on any part of the licensed premises.

“Licensed premises” includes all areas under the legal control of the licensee and available to or used by customers, which would include guest rooms.

It is unclear whether the Liquor Control Board intended these amendments to require hotels with premises licenses to exclude marijuana use in guest rooms and require licensed hotels to remove patrons who have used marijuana in guest rooms. However, as written, the amended rule states that a hotel licensee may not permit any person to consume marijuana in any part of the property owned or controlled by the licensee nor remain on any part of the licensed premises after consuming marijuana on the licensed premises. The letter of these rules require licensed hotels to prohibit use of marijuana in all areas of their property, including guest rooms, and to remove patrons who are found to have consumed marijuana on their property.

In 2014, bans and moratoria on state-licensed marijuana businesses by local governments in Washington have emerged as a significant threat to the complete implementation of I-502. While courts to date have sided with local governments (which are being supported by the Washington Attorney General) and upheld these bans, the issue is still being litigated, and an appeal by a licensed retailer and parties supported by the American Civil Liberties Union of Washington is currently pending before the Washington Supreme Court.

According to the Municipal Research and Services Center, 46 cities and 4 counties have banned marijuana businesses while 61 cities and 8 counties have enacted moratoria. This means that in over a hundred local jurisdictions – which are home to hundreds of thousands of Washington residents – marijuana businesses, and particularly retail stores, are excluded.

Beginning in June 2014, licensed retailers began to challenge these local laws in a series of lawsuits against the cities of Centralia, Fife, Kennewick, and Wenatchee and against Clark and Pierce Counties. The licensed retailers challenging these bans argue that it was never the intention of the voters or the Washington State Liquor Control Board to create a system in which state-legal recreational marijuana was locally unavailable to a large number of Washingtonians. To the contrary, one of I-502’s stated goals was to “take marijuana out of the hands of illegal drug organizations and bring it under a tightly regulated, state-licensed system similar to that for controlling hard alcohol.” I-502 directed the Liquor Control Board to license retail outlets “in each of the counties of the state.” The Liquor Control Board did this through a population-based approach, distributing retail licenses across all Washington counties and in each major city, including in counties and cities that are now opting out through local bans.

Under the Article XI, Section 11 of the Washington Constitution, a local jurisdiction is authorized to make local laws, but they must not conflict with the general laws of the State. When a city or county adopts an ordinance that prohibits activity which state law permits, or thwarts the legislative purpose of a state law, it exceeds its authority and the ordinance is unconstitutional. State-licensed marijuana retailers argue that local bans conflict with I-502’s requirement that the Liquor Control Board license retail outlets in every county and frustrate the intent of voters to make marijuana legally available across the state and ultimately supplant the black market.

The Washington Attorney General, however, issued a non-binding opinion, in which he concludes that I-502 does not prevent local governments from banning marijuana businesses. In the Attorney General’s view, unless a “state law creates an entitlement to engage in an activity in circumstances outlawed by the local ordinance,” local governments may ban business activity within their borders. According to the Attorney General local bans are legal because state-issued marijuana licenses do not create such an entitlement. The Attorney General has joined many of the suits challenging local bans, arguing in favor of local bans.

To date, lower courts have sided with local governments and the Attorney General in four of these lawsuits. The first decision came in the City of Fife litigation in which Garvey Shubert Barer and the Tacoma office of Gordon Thomas Honeywell participated as cooperating attorneys with the ACLU. That decision is now before the Washington Supreme Court on a petition for direct review, and the Court is expected to decide whether to hear the case early next year. The issue will also be heard again on December 22 in the litigation against Pierce County.

We will keep this blog updated with developments on this critical issue.

Search This Blog

Subscribe

About UsSince its founding in 1966, Garvey Schubert Barer has counseled clients across a broad range of industry sectors. Our attorneys have deep bench experience and significant expertise in both complex legal and business matters. We value innovation and entrepreneurship, and closely monitor industry trends. It is with these values in mind that our firm established the cannabis industry group. Read More ›